Auditing case study

Introduction
 Caparo established the tripartite test for determining a duty of care.

o Foreseeability: Was the harm to the claimant reasonably foreseeable?

o Proximity: Was there a sufficient relationship between the parties?
o Fairness: Is it fair, just, and reasonable to impose a duty of care?
 Caparo departs from Donoghue v Stevenson and the Wilberforce test.

o Donoghue assumed a duty of care unless there was a reason to judge otherwise.
o Wilberforce assumed a duty of care if there was a close and direct relationship
between the parties.
 Caparo has been criticized for overcomplicating the "neighbor" principle.

o Donoghue established the "neighbor" principle, which states that everyone owes a
duty of care to their neighbors.
 There is an abundance of case law that moves away from the Caparo test.

o Some courts have applied a more flexible approach to determining a duty of care.

Facts in Caparo
A firm of accountants appealed against a decision of the Court of Appeal in which it was decided
that the accountants owed a duty of care to the appellant shareholders when producing an audit
report required by statute. The claim was for negligent misstatement. Caparo had bought shares
in the company of which the report was about as part of a takeover. The appellant had relied
upon the results of the report. However, it was later found that the results of the report had
misrepresented the profits of the firm, in turn causing a loss for Caparo
Decision in Caparo
 The House of Lords overturned the Court of Appeal's decision and ruled that accountants
only owe a duty of care to the company's governance, not to existing or potential
shareholders.
 Three factors must be present for a duty of care to exist: proximity, knowledge of who
will receive the report and for what purposes it will be used, and knowledge that
shareholders or investors will rely on the report for the transaction.
  Audit reports for public limited companies (PLCs) are different from reports prepared for
specific purposes and identified audiences. Therefore, accountants do not owe a duty of
care to the entire public who may or may not rely on the report when making financial
decisions.
 Holding accountants liable for pure economic losses in the absence of contractual
agreements would open the floodgates to society.
 Auditors may owe a duty of care for reports produced if they know at the time of
preparation that the results are for a specific class for a specific purpose.

Analysis of Caparo
 The House of Lords (HOL) recognized the difficulty of applying a single test for
determining a duty of care in all situations.
 Lord Bridge acknowledged the limitations of the tripartite test in addressing cases of pure
economic loss.
 Lord Hobhouse argued that applying the Caparo test to personal injury cases would
extend its scope beyond its intended purpose.
 Hobhouse emphasized the distinct nature of personal injury cases within the law of
negligence.
 He supported his stance by citing relevant case law and the dissenting opinion of Lord
Lloyd in Mark Rich & Co. v Bishop Rock Marine.
 This approach, focusing on the specific case rather than a rigid test, was reiterated in
21st-century cases, including Arthur JS Hall & Co. v Simons and Customs & Excise v
Barclays Bank.
 Lord Geoff identified Henderson v Merrett Syndicates Ltd as falling within the "Hedley
Byrne principle," effectively setting aside the Caparo test.

Issues in Caparo
 The legal stance in Coulthard and others v Neville accurately reflects the current state of
the Caparo test.
 The application of Caparo is constantly evolving and adapting to the specific facts of
each case.
 Judges are increasingly using their discretion to achieve fair and equitable
outcomes, particularly in cases of pure economic loss.
 The Caparo test is gradually losing its rigidity and becoming more flexible to
accommodate the complexities of negligence law.